Using Crypto to Hedge Against Inflation? Be Careful Which Coins You Use

Using Crypto to Hedge Against Inflation? Be Careful Which Coins You Use

In recent months, concerns around inflation have compelled financial experts and consumers alike to reach for investment opportunities that can provide some small hedge against value loss. The fear behind their search feels justified; after all, the Fed’s balance sheet has burgeoned from $900 billion to $9 trillion in just over a decade. In 2020 alone, the U.S. government created no less than $3.5 trillion to support the economy through the Covid-19 crisis.

“It works like magic,” Brent Schrotenboer described in an article for USA Today. “With a few strokes on a computer, the Federal Reserve can create dollars out of nothing, virtually ‘printing’ money and injecting it into the commercial banking system, much like an electronic deposit.”

But for all that it might seem like a convenient deus ex machina, “printing” a way out of a crisis can pose a very real — and for investors, very alarming — chance of inflation. The economic logic is simple; by creating so much money out of nothing, the Fed risks devaluing the currency already in circulation. Inflation is already high, having spiked to a 13-year high in July. Given all this, is it any wonder that investors are searching for a means to protect the value of their hard-earned investments?

Some experts have posited cryptocurrency as just such a hedge, arguing that since such currencies exist independently and are designed to have a limited supply, centralized entities can’t erode asset value by “injecting” more into circulation.

It’s a compelling argument for investment, even for those who aren’t already convinced by the innovative benefits blockchain-based currency provides — namely, security, convenience, and trading speed. However, it comes with one major drawback: pricing volatility.

Cryptocurrency as an inflationary hedge: a flawed solution?

While investing in crypto assets might provide a partial buffer against inflation-caused value loss, investors can still take losses from the turbulent market. After all, cryptocurrency assets are notoriously volatile.

Consider Bitcoin — in April, the coin’s price hit a record high of nearly $65,000, spurred upwards by increasing institutional demand, high liquidity, and widespread investor optimism. But in the following month, perspectives on the asset dimmed as concerns over Bitcoin’s environmental impact and China’s crypto ban spread. By the end of May, Bitcoin’s price had plummeted to below $30,000.

As Cam Harvey, a professor of finance at Duke University, put the matter for Bloomberg earlier this year: “What’s going to happen to Bitcoin? It’s really unclear. The price is not just driven by the money-supply rule, it’s driven by other speculative forces. That’s why it’s multiple times more volatile than the stock market.”

Bitcoin has recovered somewhat since then, though it hasn’t regained its lofty heights; as of writing, Bitcoin’s price hovered at just over $58,000. While this recovery might be reassuring for crypto enthusiasts, it is less so for those who need crypto to serve as a shelter against inflation. After all, what does it matter that your fortunes aren’t impacted by inflation if they take a $35,000 hit from volatility?

The most prominent cryptocurrencies can’t provide a reliable inflation hedge. However, the idea behind crypto hedging is strong enough that it could work if only prices were more reliable. Hence, we come to another potential solution: asset-backed coins.

Asset-backed coins: trading speculative potential for investment reliability

Popular coins like Bitcoin and Ethereum lack any tangible backing; instead, they draw their value from blockchain-based cryptography and trading activity. This ephemeral construction allows for massive speculative gains and equally substantial losses.

Asset-backed coins, on the other hand, have the benefit of being linked to a real-world resource or currency. The logic backing this construction is simple — by tying a cryptocurrency to the value of another asset, its fluctuation will be within the bounds of what that asset normally experiences.

However, asset-backed cryptocurrencies aren’t universally useful to investment-wary investors. For example, while coins tied to a fiat currency such as the US dollar might be less volatile than Bitcoin, they will be subject to value erosion if inflation occurs. If an investor is looking to avoid the impact of local currency inflation, they shouldn’t invest in a crypto asset backed by that local currency.

All this said, investors have another backing option that has proven itself to be both resilient and reliable: precious metals.

Gold and silver-backed cryptos provide a real solution for inflation-wary investors

Precious metals have long provided a safe haven for investors. Such assets experience consistent demand and have a proven track record of maintaining their value through periods of inflation. By linking the price of a cryptocurrency to gold or silver, investors enjoy the best of both worlds — from the reliability of precious metal investments to the flexibility, scarcity, and upside potential of cryptocurrency.

Take for instance Asia Broadband’s AABBG token. Asia Broadband is a resource company focused on the production, supply, and sale of precious metals in Asian countries. This 26-year-old firm forayed into crypto earlier this year with the launch of its AABBG token. Its token is pegged to the spot price of gold and is backed by gold that comes from Asia Broadband’s own mines. The stability of the gold market ensures that this token is more stable in value when compared to other crypto assets, while still holding all the signature characteristics of a regular cryptocurrency.

Coins such as AABBG provide a hedge that can be trusted; it won’t wither away under the pressure of a few newspaper headlines or the investment community’s speculative whims. To borrow a quote from crypto expert Thomas Coughlin, “If you’re looking for a true store of value rather than waking up to a 20% haircut, then gold- and silver-backed currency is the way to go.”

Moreover, if investors decide to use their cryptocurrency holdings for more than a simple value store, precious metal cryptocurrencies allow them to do so. As discussed earlier, blockchain-backed finance provides new opportunities for secure, transparent, and innovative transactions. Investors who acquire precious-metal-backed cryptocurrencies can take full advantage of crypto’s innovative capabilities — without paying a volatility toll.

Gold and silver-backed cryptocurrencies provide a short-term solution to immediate concerns about inflation. However, they also pose long-term questions about the reliability of popular coins like Bitcoin and Etherum. There’s no question that cryptocurrency utilization is picking up; it could very well become a major avenue for financial activity in the future. But as it does, it’s worth wondering whether we should be migrating en masse away from pop coins and towards those that have real backing.

Should we be relying so much on unbacked digital currencies that could dissipate like so much smoke in the proverbial wind? Wouldn’t it be better to ensure that real-world assets uphold our digital fortunes? It’s something to consider.

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